In a previous post, I wrote about the potential for mergers and acquisitions in the non-profit sector and a project I am working on towards that end. So how does one go about finding a suitable target?

First, I found all of the organizations in NYC that operate in the same business as the acquiring organization and looked up their Form 990, the tax form that must be filled out by any 501(c)(3) non-profit organization with more than $25,000 in revenue. By law, these forms must be public. I located the majority of them using Guidestar and began by analyzing the following criteria:

Revenues - the principal reason for absorbing another organization is to expand your reach. The financial metric that corresponds to this is top-line revenues, which represents the money to be invested in organizational operations. In the non-profit world, revenues are comprised of grants, donations and fees. No matter what the source, this is what the acquiring organization stands to gain; the target’s grants, donors and fees would presumably carry over into the new organization.

Net Assets – this is essentially the cost of acquisition. It represents the leftover assets of the organization, after liabilities have been paid. If this value is too much for the acquiring organization to pay for out of their own assets, then they have to look to smaller organizations.

Revenue-to-Net Asset ratio – this gives you some perspective about the organizations you are purchasing. If this ratio is high for a target, you are getting more bank for your buck, in the sense that the amount of revenue you acquire would be greater relative to the amount you’d have to spend to buy the assets.

Burn Rate - for organizations that are currently in trouble (i.e. carrying a net operating loss), this measure estimates the length of time they can survive if the continue in their current state. It is basically net assets over net operating loss, thus telling you that if the organization continues losing this amount of money, it will burn through its assets in x years.

Operational Efficiency – this measure refers to the percentage of total expenses spent on program services , as opposed to overhead and fundraising. Organizations that have high efficiency ratios can boast, for example, that 90 cents of every dollar is spent directly on program beneficiaries, and they do so loudly.

Using these, I filtered down the list of organizations to those that were viable based on our criteria. Revenues must be large enough to make the transaction worthwhile in terms of time and money spent. Net assets must be affordable enough for the acquiring organization. The burn rate will be a proxy for organizations that are in greater danger of going under and may thus be open to being absorbed by another organization. And operational efficiency gives an idea of where money can be saved.

There are plenty of validcriticisms of using operational efficiency as a non-profit metric, particularly for organizations likeKiva or Acumen Fund. The most trenchant criticism is that efficiency has no direct correlation with impact. But for the purposes of my project, operational efficiency is an important deciding factor. For any target organization that is less efficient than the acquirer, the difference represents the savings that can be gained through the combination, which can be particularly attractive to funders and the organization itself, since it will pay a lot of money to expand its reach.

The filtered list only represents the viable. Next I must figure out which organizations are ideal. Here I will have to dig deeper into funding sources, governance and the people involved. Stay tuned; that is when things may start to get dirty.

There is no shortage of legitimatedebate about what ideas from the business world can and should be applied to the non-profit world, but one that I often wonder about is the Board of Directors.

It is pretty much assumed that non-profits should have a Board of Directors, as they bring in outside expertise and help craft a long-term strategy for the organization. But that is not the true reason boards exist in the private sector.

For-profit entities create boards for one fundamental reason: to protect the interests of shareholders. As owners, shareholders are the beneficiaries of the company’s profits as well as the victims of its losses. Thus, they appoint a Board of Directors to oversee management and make sure they don’t do anything that might threaten their payout. Long-term strategy development is simply the outcome of this pure self-interest.

Non-profits have adopted board governance, but that founding logic doesn’t hold quite as well. These board members are not owners; they have no stake in the outcomes of the organization. Instead, they are often appointed on the basis of their ability to raise funds or through personal relationships. And unlike for-profit board members, they are not paid; their involvement is strictly extracurricular.

Yet non-profit boards tend to perform the same role, overseeing management and crafting long-term strategy. I will concede that there are plenty of boards that perform this role well and enthusiastically, but one has to question whether this is the correct alignment of power and incentives. If we were to rethink this structure, would we maybe consider appointing other stakeholders? Employees? Foundation Reps? Dare I say clients?

To drive the point home, think of Bravo’sRealHousewivesofWherever, who are all often engaged in some charity work. Close your eyes and imagine that one of them is in control of your organization’s mission and long-term strategy.

[the] poll finds the vast majority of nonprofit executives reporting little improvement in government policy toward their organizations over the recent past, and pinning high hopes on a new national administration to establish a more supportive policy environment for their work at this crucial juncture of our national life. Heading the list of priority measures identified by these executives were four specific measures:

Restoration and/or growth of funds for their field in the federal budget;

Reinstatement and expansion of tax incentives for individual charitable giving;

Federal grant support for nonprofit training and capacity building; and

Reform of reimbursements under Medicare, Medicaid and other federal programs to ensure that they cover the real cost of service.

So basically all of the top priorities involved a demand for greater funding. This seemed pretty interesting to me considering that, according to the 2008 Non-Profit Almanac, total revenues and assets at non-profit organizations grew 54% from 1990 to 2005, a full 20% greater than GDP over the same period. Granted, these figures are skewed by the large proportion of revenues coming from the high-inflation education and health sectors, but the message is clear: non-profits haven’t been starving.

So what gives? I think its addiction. Similar to the way some corporations get addicted to growing through acquisitions, non-profits have become addicted to growing by acquiring new funders. Sure enough, it is the largest revenue organizations that placed priority on these funding supports, while smaller organizations at least placed some emphasis on training and capacity building for their employees and student loan forgiveness for public service careerists.

Of course, I understand the need for funding support for the critical services in society that private markets fail to pay for, but the dollar addiction is intriguing when considered alongside this:

Only 22 percent strongly favored strengthening the capabilities of government oversight agencies or introducing “community benefit standards” to clarify the basis for tax exemption.

Ok. No one likes to be regulated, but it needs to be accepted that organizations that are fully tax-exempt and benefit from the tax deductibility of charitable contributions cannot just have their cake and eat it too.

But most non-profits want subsidized, hassle-free, blank checks. At the very least, they should be willing to accept some “community benefit standards” in order to get that money. But it should go deeper than just the money. An organization should want that validation, to be able to point to a standard they have met that certifies they are indeed providing their stated benefit to the community.

The icing on the cake is that standardization would only help them raise more money by allowing organizations to avoid to the dazzling array of individual foundation requirements on a case-by-case basis.

One of the worst things you have to endure in graduate school is crappy IT services. In order to be a functioning student – pay my tuition, register for classes, read syllabi, email – I have to log in to nearly a dozen different platforms. Printers are a nightmare to configure. Necessary software is often incompatible. I’m not even sure how to get on the internet in some places.

Animosity towards the technical backbone of the school is practically universal. Considering that students put forth a lot of time and effort to get something out of these degrees, not to mention a ton of money, you would think there would be more effort to keep us happy. I began to think about how universities can get away with such poor client relations and concluded that the IT problem has to do with the unique model of higher education:

In. Up. Out.

With the possible exception of the umbrella-salesperson who seems to materialize out of thin air as soon as it starts raining, almost all businesses require repeat customers in order to survive. The failure of a customer to repurchase a good or service is an indication it was provided inadequately. This implicit feedback mechanism is one that keeps businesses on their toes, relentlessly focused on improving their product and keeping their customer satisfied.

Universities, on the other hand, have an in-up-out model that precludes this critical feedback mechanism. Their core customers are the students, who enter the university, soak up whatever knowledge possible and then leap back out into the world. Poof. They are gone, they almost never come back, and the school no longer need concern itself with the pesky grievances those students had with wireless printer configuration. Problem not solved.

(Some will say alumni donations can play the feedback role, though I don’t think this argument holds water. First, when alumni make donations, they are not repurchasing the university’s services. Instead, they are often actually donating to improve those services. Second, they often do so under the misguided assumption that the university provided them with a service that helped them to succeed, when in fact it was either the simple act of getting that degree checkbox marked off or the illusory prestige that the top-tier universities have managed to preserve. Either that, or they just want to support their football team)

The bottom line is that IT remains crappy because, with no expectation that a customer will return, there is no incentive fix it.

But worry not, because my experience led to a profound realization about non-profit management: the basic model does not inherently promote self-improvement because it follows the same in-up-out model.

Most non-profit organizations do not want return clients. Some even define success by the rate at which their clients leave. Think about homeless services: perfect execution would bring clients in, let them soak up whatever services they can (transitional housing, rehab, job-training, etc.), and have them leap back out into the world, never to return again.

But if you do not expect your client to return, how can you truly know whether or not you adequately provided the service? Failure to return may mean that your client is off the streets and working, but it may also mean they have relapsed and are back living on the streets, having determined that your organization is useless. You will never know for sure and you will never improve.

Hell, you may even use your useless non-return metric to raise money, claiming that all of your clients moved on to bigger and better things. And this, in my opinion, is how donors got all crazy, paternalistic and problematic. After years of funding in-up-out organizations with little or no tangible improvement in outcomes, they felt compelled to come up with their own metrics.

This is a welcome step, but the absence of standards makes it unsustainable. Non-profits today are forced by donors to jump through hoops and maintain metrics that are often irrelevant to the organization and the context in which it operates, further straining their resources.

I am not sure what the answer is, but I am certain that it involves the client. We must know where they go when they walk out our doors and we must find ways to get their feedback.

Ok. I know its tough; markets haven’t exactly put their best feet forward in recent memory. But leave aside for a moment the systemic failures and just think about what financial markets are able to do the majority of the time.

I came from a non-profit and social sciences background, and therefore had little understanding of financial markets before I began attending business school at NYU. And I have to say that I am often in awe of what they do.

The power of markets lies in their ability to allocate capital to those institutions that would use it best (defined by returns in the world of finance). What amazes me is how responsive markets are to the news of potential success. If a rumor about the Apple tablet proves to be true, markets respond instantaneously, sending Apple’s stock price (NASDAQ: AAPL) streaking upwards in a fraction of a day before settling near a new equilibrium price that represents the product’s potential for increased returns. Dell’s price (NASDAQ: DELL) may accordingly drop. All of a sudden, Apple’s fundraising capacity has mushroomed. It is able to attract even more capital that it can invest in its next cool doohickey. And the cycle continues, as long as the market sees potential.

I imagine the potential for applying this to the social and public sectors. A public school develops a new curriculum that proves successful in narrowing the achievement gap, or a government health agency makes a major breakthrough in the development of an AIDS vaccine, and funders are instantly drawn to the solution like moths to a flame. The “stock” rises and, all of a sudden, there are financial resources readily available for these organizations that would use them best. For training teachers on the curriculum. For mass production and distribution of the vaccine. For the potential to solve a problem.

In the markets, those who demonstrate the most potential become great institutions and those who don’t fade away. We are left pining over what the Apple tablet may bring and quickly forget about those who failed before.

There is a powerful logic to this I find compelling. Non-profits solicit funding; it rarely comes to them, and many ineffective organizations remain afloat because they are simply able to find some funder somewhere. We accept failed companies so that we can have iPhones. Should we not accept failed organizations so we can have those that create real impact?